What are auditors and audit committees doing to get ready for the impending disclosure of CAMs in audit reports ? You remember that, under AS 3101, the new auditing standard for the auditor’s report, auditors will be required (in 2019 for large accelerated filers and phased in for others) to include a discussion of “critical audit matters,” that is, “matters communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements; and (2) involved especially challenging, subjective, or complex auditor judgment.” (See this PubCo post.) Essentially, the concept is intended to capture the matters that kept the auditor up at night, so long as they meet the standard’s criteria. The selection of and disclosure regarding CAMs will certainly present a challenge for both audit committees and auditors. This article from Compliance Week reports that, beyond that challenge, the prospect of CAM disclosure should precipitate a reassessment by audit committees and companies of related corporate disclosure to ensure that companies stay ahead of the curve.
According to the article, some auditors are working with audit committees at large accelerated filers to conduct CAM “dry runs” to get a better handle on how the new CAM disclosures will look and how the process will affect financial reporting. To perform these dry runs, some auditors are identifying CAMs using the prior year’s audit, actually crafting the disclosures, engaging in discussions with audit committees about the disclosures and creating the supporting documentation. In addition, the practice session is helping to identify the types of controls that need to be developed. A PCAOB representative approved of this “proactive approach” and indicated in the article that the PCAOB expects questions over the summer and “‘intends to monitor the results of implementation, including consideration of unintended consequences.’” But if you were thinking—because the adopting release contemplates the possibility—that the auditors might, in some situations, find no CAMs to report, think again. So far, advises one Big Four auditor, every dry run has identified some CAMs to disclose.
Another Big Four auditor characterized the engagement with audit committees as critical to the process, observing that audit committees have posed many questions related primarily to identification of CAMs, both of the company and of its competitors. These CAMs “tend to focus on accounting and auditing areas that are known to be difficult—valuations of indefinite-lived assets, goodwill impairments, uncertain tax positions, and revenue recognition, especially using the percentage-of-completion method under the historic approach to revenue recognition.”
In addition to helping auditors develop systems and methodologies, however, the practice sessions are leading audit committees to consider the impact of CAM disclosures on companies’ own disclosures. Why? Because, generally, audit committees much prefer that the company get a jump on the disclosure so that the auditors will not need to resort to the creation of original material and the company can best frame the discussion from its own perspective. After all, no audit committee would be enthusiastic about the prospect of the auditor’s sharing with the investing public the concerns that arose in performing the audit or the struggles involved in reaching conclusions about the financials. Although the adopting release suggested that the process would be an iterative one between management and the auditors, time will tell whether, once the auditors have crafted a CAM disclosure, they might just be a bit reluctant to allow much input by audit committees or managements. To best position the company, a former Director of Corp Fin cited in the article advised, audit committee members should be revisiting the company’s own disclosures now, as soon as they have an inkling of which CAMs the auditor plans to identify: the “best CAM disclosure…will be one that cross references a disclosure in the financial statements.”
One auditor observed in the article that enhancing corporate disclosure has now evolved into a regular part of the CAM discussion. Another auditor even ventured that improving the entirety of corporate disclosure—not just the auditor’s report—“‘was the objective of the entire standard.…It not only gets the view of the auditor’s unique perspective on corporate reporting, but it could help the overall disclosure package in total.’” The ineluctable conclusion: start the process early and, as part of that process, revisit the company’s own disclosures.